Purchase Order Financing

What purchase order financing is

Purchase order (PO) financing helps a business fill a confirmed order from a creditworthy customer when it does not have the cash to pay its own supplier. The financing company pays the supplier directly, or backs that payment with a letter of credit, so the goods can be produced or shipped. When the customer pays, the financing is repaid and the business keeps what is left after fees.

It is built for companies that buy finished goods and resell them. The typical user does not manufacture much in-house. It sources products from a supplier, then delivers them to a customer. The gap is the time between paying the supplier and getting paid by the customer, and the order is often bigger than the business's cash or credit line can handle.

How PO financing differs from invoice factoring

The two products cover different points in the same cycle.

• Invoice factoring funds a receivable that already exists. You have delivered the goods or services and invoiced a business customer. The factor advances part of the invoice and collects from the customer.
• PO financing funds an order before there is an invoice. Nothing has shipped yet, so the lender is taking on the risk that the supplier delivers on time, the goods meet specifications, and the customer accepts them.

Because of that added risk, PO financing is more selective and usually costs more than factoring. It also funds only the supplier cost, not your overhead or margin.

The typical PO financing flow

1. Your customer issues a purchase order to you.
2. You get a quote from your supplier and apply to the PO financing company with both documents.
3. The financing company checks the customer's credit, the supplier's track record and your margin on the deal.
4. Once approved, the financing company pays the supplier, often directly or through a letter of credit.
5. The supplier produces and ships the goods to your customer, sometimes with third-party inspection.
6. You invoice the customer. The invoice is then often factored, and the factor's advance repays the PO financing.
7. When the customer pays the factor, the reserve is released and you receive the remaining balance, minus fees.

That handoff from PO financing to factoring is common. Some companies offer both products under one agreement. Others work with a separate factor. Either way, plan the full chain before you accept the order.

Who uses PO financing

• Resellers and wholesale distributors that buy finished goods from manufacturers and sell to retailers or businesses.
• Importers that source products overseas and need to pay suppliers before goods ship.
• Consumer product brands that outsource manufacturing and land large retail orders.
• Government contractors that supply finished goods to agencies under a contract or delivery order.

It is a poor fit for service businesses, which have no supplier to pay, and for companies that do most of their own manufacturing, since many PO lenders will not fund raw materials, labor and work in process.

What lenders look at

• The customer's credit. The end customer's ability to pay is central. Large retailers, distributors and government agencies are easier to approve.
• The supplier's reliability. The lender needs confidence that the supplier will deliver on time and to specification. A history of completed orders helps.
• Gross margin on the deal. The order must leave enough margin to cover financing fees and still be worth doing. Lenders typically want to see the math.
• A firm, non-cancellable order. Purchase orders with easy cancellation or open-ended terms are harder to fund.
• Your track record. Lenders want to see that you have filled similar orders before, even if smaller.
• Existing liens. If a bank or other lender holds a blanket lien, it may need to subordinate or release its claim on the specific goods and receivable.

Costs and how they're quoted

PO financing is priced per deal. The quote depends on the order size, the customer's credit, the supplier's location and history, and how long the money will be out, from the supplier payment until the customer pays. Fees are usually charged for set time periods, so delays in production, shipping or customer acceptance raise the total cost.

If the deal also uses factoring, you pay both sets of fees. Before accepting, calculate the full cost from supplier payment to customer payment and compare it with your margin. If the order only works on paper when everything runs on time, it may not be worth doing.

Pitfalls specific to PO financing

Supplier delays and quality problems

If goods arrive late or fail inspection, the customer can cancel or reject them. Under UCC 9-404, a factor or lender that takes your receivable takes it subject to the customer's defenses from the same deal, so a quality dispute can reduce what is collected and leave you owing the balance.

Order changes and cancellations

Retail and distributor POs can change after you commit to a supplier. Read your customer's PO terms for cancellation rights, and confirm with your lender what happens if the order shrinks.

Notice and payment direction

Once the invoice is assigned and the customer gets proper notice, UCC 9-406 requires the customer to pay the assignee. If payments arrive with you, they must be passed on immediately.

Federal orders

Assigning payments under a federal contract requires a formal process. Under FAR 32.802, the assignee must be a bank, trust company or other financing institution, and written notice must go to the contracting officer, any surety and the disbursing officer.

When to look at other financing

• Supplier credit. Negotiating payment terms with your supplier can remove the need for PO financing.
• Customer deposits. Asking for a deposit on large orders reduces how much you must finance.
• SBA programs. The SBA's Contract CAPLine finances costs tied to specific contracts. Exporters can look at the SBA's Export Working Capital Program, which provides loans of up to $5 million and can be applied for before an export sale is final.
• Asset-based lines. Companies with repeat orders may qualify for a line secured by inventory and receivables.

Frequently asked questions

Does PO financing give me cash directly?

Usually not. The financing company pays your supplier. You receive money only after the customer pays and the financing and fees are settled.

Can a startup use PO financing?

Sometimes. Lenders focus mainly on the customer's credit, the supplier's reliability and the deal's margin. A new company with a strong order and a proven supplier may qualify.

Can PO financing cover my own manufacturing costs?

Rarely. Most PO lenders fund finished goods from third-party suppliers. Raw materials and labor are harder to finance this way.

Why is factoring often paired with PO financing?

Because the customer pays on terms after delivery. Factoring turns the customer's invoice into cash, which repays the PO financing quickly and stops its fees from adding up.